Remarkable New Puerto Rican Law Exempts U.S. Citizens From Multitude Of Taxes

Chris | InformationLiberationA remarkable new law passed last year in Puerto Rico reportedly exempts U.S. citizens who choose to become residents of the territory from a multitude of taxes. Bloomberg reports John Paulson, the hedge fund manager who made $3.7 billion shorting sub prime mortgages in 2007 before their crash, is possibly looking at moving there, and many wealthy individuals involved in internet, software, and financial companies are looking at taking advantage of the new law.

John Paulson, a lifelong New Yorker, is exploring a move to Puerto Rico, where a new law would eliminate taxes on gains from the $9.5 billion he has invested in his own hedge funds, according to four people who have spoken to him about a possible relocation.

Ten wealthy Americans have already taken advantage of the year-old Puerto Rican law that lets new residents pay no local or U.S. federal taxes on capital gains, according to Alberto Baco Bague, Secretary of Economic Development and Commerce of Puerto Rico. The marginal tax rate for affluent New Yorkers can exceed 50 percent on ordinary income.

Paulson, 57, recently looked at real estate in the exclusive Condado neighborhood of San Juan, where an 8,379- square-foot penthouse, complete with six underground parking spaces, lists for $5 million. The area is home to St. John’s School, a private English-language academy where he and his wife could send their two children, said the people, who asked not to be named because the discussions were private.

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The Puerto Rican tax law provides a boon for someone like Paulson, who earns most of his money from investments. The federal rate for top earners in the U.S. is 23.8 percent on long-term capital gains and dividends and 39.6 percent on ordinary income, which includes short-term gains and interest. State and local taxes can push the marginal rate for rich New Yorkers higher.
Under the Puerto Rican law, any capital gains accrued after a person moves there would be tax free. Dividend and interest income paid by U.S. companies would still be subject to U.S. federal taxes, though would not be taxed locally.

In addition, new residents can benefit from another new law that taxes business income earned in Puerto Rico at 4 percent. That law could potentially apply to hedge fund fees earned by a resident for services rendered for U.S.-based clients, said Gabriel Hernandez, one of the framers of the Puerto Rican tax law and head of the tax division of BDO Puerto Rico PSC.

Hernandez now gets a call every day from wealthy individuals involved in Internet, software or financial companies who are interested in moving to the island, he said. He declined to name any of the business people who have relocated or who are currently contemplating such a move.

Preferential Treatment

Residents of Puerto Rico, an unincorporated territory of the U.S., typically pay a local tax rate of as much as 33 percent, according to Gabriel. They don’t pay U.S. taxes on income from Puerto Rico, but are taxed on dividends and interest from U.S. companies. They are not subject to capital gains taxes in the U.S. and pay a 10 percent capital gains tax locally, from which new residents are exempt.

The preferential treatment for the new residents aims to promote investments in real estate, boost services and consumption, and encourage foreign service providers to move their businesses to the country, said Puerto Rico’s Baco Bague.

In addition to the 10 wealthy individuals who have already relocated to Puerto Rico to take advantage of the new laws, 40 more are currently talking to the government about moving and have brought their families to look at housing and schools, said Baco Bague. About 35 percent are hedge-fund managers, he added.

Government Contract

One hedge-fund manager, Pascal Forest, has taken the additional step of setting up his firm, Forest Investments LLC, in San Juan. Forest, a former portfolio manager at London-based BlueGold Capital Management LLP, said the tax incentives played into his decision to move to the island, as did his wife, who is Puerto Rican and wanted to come home after 16 years.

In order to become eligible for the new tax breaks, a person must live on the island for at least 183 days a year and prove that a preponderance of his social and family connections are there. Any person who moves to the island signs a contract with the government that guarantees the tax break through Dec. 31, 2035.

“You have to actually become a bona fide resident of Puerto Rico, bring your children,” said Fernando Goyco-Covas, a tax lawyer at Adsuar Muniz Goyco Seda & Perez-Ochoa PSC. “You cannot do this just claiming you are a resident.”

This act is quite remarkable, for Hedge Fund managers who make most of their money through "carried interest," which is taxed as capital gains, the savings could be massive. It appears from my reading of their government's report on the acts, they seem to suggest you can open your business in Puerto Rico and become a resident, potentially be exempted from U.S. income taxes per an old tax agreement despite being a U.S. citizen, and so long as you only service non-Puerto Ricans you could only pay 4% corporate income tax on your earnings, nothing on your non-U.S. based investments, and even zero property tax on your new Puerto Rican corporate headquarters. Admittedly, they're probably excluding some taxes, I know for a fact you're still liable to pay social security taxes, and I suspect they're not including "local" Puerto Rican income taxes which range from 7 to 33 percent on incomes over $60,000. Regardless, even if you do have to pay U.S. income taxes, or instead "local" Puerto Rican income taxes, the savings from the other tax exemptions could still be significant.

As someone looking to leave the U.S. but reluctant to cut all ties and renounce citizenship, Puerto Rico is looking quite attractive.
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Chris runs the website InformationLiberation.com, you can read more of his writings here. Follow infolib on twitter here.

Like every immigrant in the history of the world, Mr. Paulson has decided that he wants to consider leaving his current home. The reasons for that seem to be the reality that the US, NY, and NYC need money and with a tax system which has the top 1% paying over a third of the total of tax dollars collected is tapping these "Golden Geese" more and more. Whether you ,I, or Warren Buffett think it fair is irrelevant. Mr. Paulson does not think it fair so he is looking to the exits to sever his FUTURE US, NY, and NYC tax liability.

The second part of this decision process is "Where to go?" PR is an option but so are a number of other places such as Canada, UK, New Zealand, Australia , Switzerland and several other European destination. "But those are all high tax rate countries!" Is the usual knee jerk reaction. The correct response is that Mr. Paulson would use LEGAL tax planning to vastly reduce his tax bill. For example, in Canada he could limit his Canadian tax obligation to ONLY Canadian source income and capital gains. Also Canada has no gift or estate tax (unlike Puerto Rico). Notably, it would be much easier for him to recreate his hedge fund in Toronto vs. San Juan. Finally Toronto is only one hour by air from Manhattan, definitely closer than PR.

@Mr. Lesperance:
I live in Australia and am a dual citizen. The only tax benefit of being an Australian is that any money you earn outside of Australia is non-taxable. All income within Oz is highly taxable. Need to pay for socialism somehow. You want a tax free zone? Try Thailand or Singapore. Or Vanuatu. Puerto Is not a good choice for many reasons.

Used to live in Canada and to get permanent residency you must pass the 100 point test. If you are over 55, you won't pass. You can buy your way in but it is tenuous.

If you're not a U.S. citizen, you're not subject to a global income tax, so moving to Puerto Rico would be pointless for tax reasons as most of the Caribbean islands have lower and better tax regimes. This Puerto Rico deal is unique mainly because you don't have to renounce US citizenship to take advantage of it.

If you are considering this move make sure you are also aware of the outrageous and antiquated inheritance laws in Puerto Rico. Inheritance laws affect everyone, but anyone who is divorced or whose spouse is divorced and has children from another marriage/union needs to be informed. Everything except insurance policies are considered in your estate and even 1/2 of your spouse's 401k, IRA, cars, other property could be split and given to your spouse's children instead of your own. Wills here are not like in the US and any pre-marital agreements made elsewhere are NOT valid on the island. In order to protect yourself "some", you will need to have a pre-nup in Puerto Rico before marriage. Check the laws!!!

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